Term Structure of Consumption Risk Premia in the Cross Section of Currency Returns

Abstract

I relate the downward‐sloping term structure of currency carry returns to compensation for currency exposures to macroeconomic risk embedded in the joint dynamics of U.S. consumption, inflation, nominal interest rate, and their stochastic variance. The interest rate and inflation shocks play a prominent role. Higher yield currencies exhibit higher multiperiod exposures to these shocks. The prices of these risk exposures are positive and sizeable across all investment horizons. The interest rate shock is qualitatively similar to the long‐run risk of Bansal and Yaron.

Term structures of asset prices and returns

“…First, there is growing evidence, both non-parametric and model-based, on the risk premium patterns of zerocoupon securities across different horizons. A partial list of the research in this area includes Belo, Collin-Dufresne, and Goldstein (2015), Binsbergen, Brandt, and Koijen (2012), Binsbergen, Hueskes, Koijen, and Vrugt (2012), Hasseltoft (2013, 2014), Dew-Becker, Giglio, Le, and Rodriguez (2015), Giglio, Maggiori, and Stroebel (2015), Hansen, Heaton and Li (2008), Hasler and Marfe (2015), Lustig, Stathopolous, and Verdelhan (2014), and Zviadadze (2013). We complement this body of research by offering evidence on the log excess returns, which are cousins of risk premiums.…”

Term Structures of Asset Prices and Returns

“…First, there is growing evidence, both non-parametric and model-based, on the risk premium patterns of zerocoupon securities across different horizons. A partial list of the research in this area includes Belo, Collin-Dufresne, and Goldstein (2015), Binsbergen, Brandt, and Koijen (2012), Binsbergen, Hueskes, Koijen, and Vrugt (2012), Hasseltoft (2013, 2014), DewBecker, Giglio, Le, and Rodriguez (2015), Giglio, Maggiori, and Stroebel (2015), Hansen, Heaton and Li (2008), Hasler and Marfe (2015), Lustig, Stathopolous, and Verdelhan (2014), and Zviadadze (2013). We complement this body of research by offering evidence on the log excess returns, which are cousins of risk premiums.…”

Term Structure of Uncertainty in the Macroeconomy

“…Provided that we adopt an interpretable way to denominate risk prices for other distributions, our methods continue to apply beyond the conditionally Gaussian framework. For instance, Zviadadze (2016) constructs shock elasticities in a stochastic environment with autoregressive gamma processes. Another example are regime-shift models that may include both normally distributed shocks along with uncertain regimes.…”